Elements of Foreign Exchange Part 2

Exports continue on a certain scale all through the year, but, like imports, are heavier at some times than others. In the Fall, for instance, when the year's crops are being exported, s.h.i.+pments out of the country invariably reach their zenith, the export nadir being approached in midsummer, when the crop has been mostly exported and s.h.i.+pments of manufactured goods are running light.

From the middle of August, when the first of the new cotton crop begins to find its way to the seaport, until the middle of December, when the bulk of the corn and wheat crop exports have been completed, exchange in very great volume finds its way into the New York market. Normally this is the season of low rates, for which reason many s.h.i.+ppers of cotton and grain, who know months in advance approximately how much they will s.h.i.+p, contract ahead of time with exchange dealers in New York for the sale of the bills they know they will have. By so doing, s.h.i.+ppers are often able to obtain very much better rates. They can then protect themselves, at least, from the extremely low rates which they may be forced to take if they wait and accept going rates at a time when s.h.i.+ppers all over the country are trying to sell their bills at the same time.

How great is the rush of exchange into market may be seen from the statistics of cotton exports during the period given below. Not all of this cotton goes out during the last four months of the year, but the greater part of it does and, furthermore, cotton, while the most important, is only _one_ of the domestic products exported in the autumn.

MONEY VALUE OF COTTON EXPORTED

1913 $547,357,000 1912 565,849,000 1911 585,318,000 1910 450,447,000 1909 417,390,000

During the autumn months, under normal conditions, the advantage is all with the buyer of foreign exchange. By every mail huge packages of bills, drawn against s.h.i.+pments of cotton, wheat and corn, come pouring into the New York market. Bankers' portfolios become crowded with bills; remittances by each steamer, in the case of some of the big bankers, run up, literally, into the millions of dollars. Naturally, any one wanting bankers' exchange is usually able to secure it at a low price.

2. With regard to the second influence making for low exchange, sale of American bonds or stocks abroad, no season can be set when the influence is more likely to be operative than at any other, unless, possibly, it be the Spring, when money rates are more apt to be low and bond issues larger than at any other time of the year. No time, however, can be definitely set--there are years when the bulk of the new issues are brought out in the Spring and other years when the Fall season sees most of the new financing. But whatever the time of the year, one thing is certain--the issue of any amount of American bonds with Europe partic.i.p.ating largely means a full supply of foreign exchange not only during the time the issues are actually being brought out, but for long afterward.

There used to be a saying among exchange dealers that cotton exports make exchange faster than anything, but nowadays bond sales abroad have come to take first place. For foreign partic.i.p.ation in syndicates formed to underwrite new issues almost invariably means the drawing of bills representing the full amount of the foreign partic.i.p.ation. A syndicate is formed, for instance, to take off the hands of the X Y Z railroad $30,000,000 of new bonds, the arrangement being that the railroad is to receive its money at once and that the syndicate is to take its own time about working off the bonds. Half the amount, say, has been allotted to foreign houses. Immediately, the drawing of 3,000,000, or francs 75,000,000, as the case may be, begins. The foreign houses have to raise the money, and in nine cases out of ten, their way of doing it is to arrange with some representative abroad to let them draw long drafts, against the deposit of securities on this side. These drafts, in pounds or francs, at sixty to ninety days'

sight, they can sell in the exchange market for dollars, thus securing the money they have agreed to turn over to the railroad. In the meantime, during the life of the drafts they have set afloat and before they come due and have to be paid off, the bankers here can go about selling the bonds and getting back their money. Perhaps before the sixty or ninety days, as the case may be, are over, the syndicate may have sold out all its bonds and its foreign members have been put in a position where they can pay off all the drafts they set afloat originally in order to raise the money.

Very often, however, it will happen that on account of one reason or another, sixty days pa.s.s or ninety days pa.s.s without the syndicate having been able to dispose of its bonds. In that case the long bills drawn on the foreign bankers have to be "renewed"--that being a process for which ample provision has, of course, been made. In a succeeding chapter, full description of how long bills of exchange coming due are renewed will be made. Just here it is only necessary to say that most or all of the money necessary to pay off the maturing bills is raised by selling another batch of "sixties" or "nineties," an operation which throws the maturity two or three months further ahead.

From this outline of the way foreign partic.i.p.ation in American bond issues is financed, it can be seen that every time a big issue of bonds of a railroad or industrial in which European investors are actively interested, is brought out, it means a large supply of foreign exchange created and suddenly thrown on the exchange market for sale. Not any more suddenly or publicly than the bankers concerned can help, but still necessarily so to a great degree, because big bond issues can only be made with the full knowledge and cooperation of a large part of the public. Bankers who know in advance of large issues likely to be made and in which they know they will be asked to partic.i.p.ate, often sell "futures" covering the exchange they foresee their partic.i.p.ation will bring into existence, but as a general rule it may be set down that heavy issues, involving the sale abroad of large amounts of bonds, are a most depressing factor on the foreign exchange market. Especially so, as the partic.i.p.ants who have agreed to turn over the money to the railroad, must sell bills to raise it, even if the horde of speculators and "trailers" who are always on the lookout for such opportunities, make every effort to sell the market out from under their feet.

3. Uneasiness with regard to the stability of the financial situation at some point abroad where American bankers usually carry large balances is another circ.u.mstance which often depresses the exchange market sharply. "Trouble in the Balkans" and "trouble over the Moroccan situation" are two bugbears which have for years back furnished the keynote for many swoops downward in the exchange market, and for years after this book is published will probably continue to do so. Money on deposit at a point several thousand miles away is naturally very sensitive, and the least suspicion of financial trouble is sufficient to cause its withdrawal. Withdrawal of bankers' balances from a foreign city means offerings of exchange drawn on that point with resultant decline in rates.

In the everyday life of the exchange market, political developments of an unfavorable character and war rumors are about the most frequent and potent influences toward the condition of uneasiness above referred to.

Few war rumors ever come to anything, but there are times when they circulate with astonis.h.i.+ng frequency and persistence and cause decided uneasiness concerning financial conditions at important points. At such times bankers having money on deposit at those points are apt to become influenced by the drift of sentiment and to draw down their balances.

Here, again, operators in exchange, keenly on the alert for such chances, will very likely begin to sell the exchange market short and often succeed in breaking it to a degree entirely unwarranted by the known facts.

4. But of all the sure depressing influences on exchange, none is more sure than a rise in the money market. More gradual usually than a decline caused by such an influence as the sale of American bonds abroad, the influence of a rising level of money rates is nevertheless far more certain.

The theory of this "counter" movement in money rates and exchange is simply that when money rates rise, say at a point like New York, American bankers find it profitable to draw in their deposits from all over Europe for the purpose of using the money in New York. Such a process means a wholesale drawing of bills of exchange on all the leading European cities, with consequent offering of the bills and price-depression in the leading American exchange markets.

The number of banks scattered all over the United States which keep running deposit accounts in the leading European cities has become surprisingly great during the past ten years, and a movement to bring home this capital has to go only a little way before it reaches very large proportions. That is exactly what happens when money rates at a point like New York become decidedly more attractive than they are over on the other side. Arrangements with foreign correspondents usually call for a minimum balance of considerable size, which must be left intact, but under ordinary circ.u.mstances there is considerable leeway, and when the better opportunity for loaning presents itself here, drafts on balances abroad, in large aggregate amount, are apt to be drawn and sold in this market. Especially is this the case when the cause of the higher money level appears to be deep-rooted and the outlook is for a continuance of the condition for some time to come.

5. Lastly, as a depressing factor, there is to be considered the condition which arises when money at some important foreign center, such as London or Paris, begins to ease decidedly. Large receipts of gold from the mines, a bettering political outlook--these or many other causes may bring it about that money in London, for instance, after a period of high rates, may ease off faster than in Berlin or Hamburg. As a result, American bankers having large balances in London and finding it difficult to employ them profitably there, any longer, either withdraw them entirely or have the money transferred to some other point. In either case the operation will result in depressing the rate of exchange on London, for the American banker will either draw on London himself or, if he wants to transfer the money to Berlin or Hamburg, will instruct the German bankers by cable to draw for his account on London. In whatever way it is accomplished, the withdrawal of capital from any banking point tends to lower the rate of foreign exchange on that point.

These are the main influences bearing on the fluctuation of exchange.

Needless to say they are not exerted all one way, or one at a time, as set forth. The international money markets are a most decidedly complex proposition, and there is literally never a time when several influences tending to put rates up are not conflicting with several influences tending to put rates down. The actual movement of the rate represents the relative strength of the two sets of influences. To be able to "size up" the influences present and to gauge what movement of rates they will result in, is an operation requiring, first, knowledge, then judgment. The former qualification can perhaps be derived, in small degree, from study of the foregoing pages. The latter is a matter of mental calibre and experience.

CHAPTER IV

THE VARIOUS KINDS OF EXCHANGE

Before taking up the question of the activities of the foreign exchange department and the question of how bankers make money dealing in exchange, it may be well to fix in mind clearly what the various forms of foreign exchange are. Following is a description of the most important cla.s.ses of bills bought and sold in the New York market:

1. _Commercial Long Bills_

[Ill.u.s.tration: Form of Commercial Long Bill]

Drafts drawn by s.h.i.+ppers of merchandise upon buyers abroad, or upon the banking representatives of the buyers abroad, at thirty days' sight or more. The drafts may be accompanied by s.h.i.+pping doc.u.ments or may be "clean." The former kind of bill making up the greater part of the whole amount of foreign exchange dealt in in the New York market, will be described first.

Suppose a cotton dealer in Memphis to have sold one hundred bales of cotton to a spinner in Liverpool, the arrangement being that the English buyer is to be drawn on at sixty days' sight. The first thing the Memphis merchant does is to s.h.i.+p the cotton on its way to Liverpool, receiving from the railroad company a receipt known as a "bill of lading." At the same time he arranges for the insurance of the cotton, receiving from the insurance company a little certificate stating that the insurance has been effected.

The next step is for the Memphis s.h.i.+pper to draw the draft on the Liverpool buyer--or upon some bank abroad designated by the buyer. This draft is drawn in pounds sterling for the equivalent of the dollar value of the cotton and made payable sixty days after the party abroad on whom it is drawn has seen it and written "accepted" across its face.

This draft, the bill of lading received from the s.h.i.+pping company, and the insurance certificate received from the insurance company are then pinned together and const.i.tute a complete "commercial long bill with doc.u.ments attached."

Other less important doc.u.ments go with such a bill. Sometimes invoices showing the weight and price of the cotton go along with it and sometimes there is also attached a "hypothecation slip" which formally turns over the right to the goods to the Memphis or New York banker who buys the draft and accompanying doc.u.ments from the Memphis cotton s.h.i.+pper. Sometimes, too, insurance is effected by the buyer abroad, in which case there may be no insurance certificate. But in the main, one of these "doc.u.mentary" commercial bills consists of the draft itself, the bill of lading, and an insurance certificate.

Having pinned the doc.u.ment and the draft together, the Memphis cotton s.h.i.+pper is in possession of an instrument which he can dispose of for dollars. This he does either by selling it to his bank in Memphis or by sending it to New York, in order that it may be sold there in the exchange market at the current rate of exchange. Say, the bill of exchange is drawn on London at sixty days' sight, for 1,000. The buying price for such a draft will be, perhaps, 4.84. The Memphis s.h.i.+pper gets his check for $4,840, and is out of the transaction. The bill has pa.s.sed into a banker's hands, who will send it abroad--deposit it in some foreign bank where he keeps a balance.

As to the rate of 4.84 received by the s.h.i.+pper, it is to be noted that had the bill been drawn at less than sixty days' sight, he would have received more dollars for it, while if it had been drawn at more than sixty days' sight, he would have received less for it. The longer the banker who takes the draft off the s.h.i.+pper's hands has to wait until he can get his money back on it, the lower, naturally, the rate of exchange he is willing to pay. On the same day that demand drafts are selling at 4.87, sixty-day drafts may be selling at 4.84 and ninety-day drafts at 4.83.

a.s.sume, in this particular case, that the draft has been taken off the s.h.i.+pper's hands by some foreign exchange banker in New York. By the very first steamer the latter will forward it to his banking correspondent abroad, with instructions to present it at once to the parties on whom it is drawn, in order that they may mark it "accepted--payable such-and-such-a-date." After that the bill is a double obligation of the drawer and the drawee, and may be discounted in the open market, for cash.

Just here it is necessary to digress and state that doc.u.mentary commercial bills are of two kinds--"acceptance" bills and "payment"

bills. In the case of the first-named, the doc.u.ments are delivered to the party on whom the bill is drawn as soon as he "accepts" the bill, which puts him in a position to get possession of the merchandise at once. In the case of a "payment" bill, the credit of the man on whom it is drawn is not good enough to ent.i.tle him to such a privilege, and the only way he can get actual possession of the goods is to actually pay the draft under a rebate-of-interest arrangement. All bills drawn on banks are naturally "acceptance" bills; and being discountable and thus immediately convertible into cash abroad, command a better rate of exchange in the New York market than "payment" bills, which may be allowed to run all the way to maturity before a single pound sterling is paid on them.

Except in the case of the s.h.i.+pment of perishable merchandise--grain s.h.i.+pped in bulk, for instance. In that case the buyer on the other side cannot afford to let the draft run, because the merchandise would spoil. He is simply forced to pay it under rebate, in order to get possession of the grain. And the rebate being always less than the discount rate, less pounds sterling come off the face of the bill in the process of _rebating_ than of _discounting_. For which reason sixty-day bills drawn against s.h.i.+pments of grain--doc.u.ments deliverable only on payment under rebate--command a better rate of exchange even than the very best of cotton "acceptance" bills drawn on banks.

2. _Clean Bills_

[Ill.u.s.tration: Form of Clean Bill]

Where the drafts of the merchants of one country drawn upon the merchants or bankers of another are unaccompanied by s.h.i.+pping doc.u.ments they are said to be "clean." Bills of this kind may originate from the transfer of capital from one country to another or may represent drawings against s.h.i.+pments of merchandise previously made. It is not unusual, indeed, where the relations.h.i.+p between some foreign merchant and some American merchant is very close, for the one to s.h.i.+p merchandise to the other without drawing drafts against the s.h.i.+pment until some little time afterward. It might happen, for instance, that a cotton manufacturing firm in France wanted to import a lot of raw cotton from the United States, but did not want to be drawn upon at the time. Under such circ.u.mstances the American house might s.h.i.+p the goods and send over the doc.u.ments to the buyer, postponing its drawing for some time. Eventually, of course, the American house would reimburse itself by drawing, but the doc.u.ments having gone forward long before, the drafts would be what is known as "clean."

Later on, in the chapter on the actual money-making operations of the foreign department, the risk in buying various kinds of bills will be fully explained, but in pa.s.sing it may be mentioned that "clean" bills are of such a nature that bankers will touch them only when drawn by the very best houses. With a doc.u.mentary bill, the banker holds the bill of lading, and if there is any trouble about the acceptance or payment of a draft, can simply seize the goods and sell them. But in the case of a "clean" bill, he has absolutely no security. The standing of the maker of the bill and what he knows about the maker's right to draw the bill is all he has to go by in determining whether to buy it or not.

3. _Doc.u.mentary Commercial Bills Drawn at Short Sight_

[Ill.u.s.tration: Form of Doc.u.mentary Commercial Sight Bill]

A comparatively small part of our exports are sold on a basis where the draft drawn is at less than thirty days' sight, but there are a good many small bills of this kind continually coming into the market.

Drafts drawn against manufactured articles and against such products as cheese, b.u.t.ter, dried fruits, etc., are apt to be drawn for, with s.h.i.+pping doc.u.ments attached, at anywhere from three to thirty days'

sight, but there is no rule about it. Where the "usance"--the time the bill has to run--is only a few days, doc.u.ments are apt to be deliverable only on payment of the bills.

4. _Drafts Drawn Against Securities_

[Ill.u.s.tration: Form of Draft Drawn Against Securities]

Exchange of this kind is naturally of the highest cla.s.s, the stocks or bonds against which it is drawn being almost always attached to the bill of exchange. In the case of syndicate partic.i.p.ations by large houses, the bonds may be s.h.i.+pped abroad privately and exchange against them drawn and sold independently, in which case, of course, no security is attached, but as a rule the bonds or stocks go with the draft. A, in New York, executes an order to buy for B in London, one hundred Union Pacific preferred shares on the New York Stock Exchange.

The stock comes into A's office, and he pays for it with the proceeds of a sterling draft he draws on B. The stock itself he attaches to this sterling draft. Whoever buys the draft of him gets the stock with it and keeps possession of it till the draft is presented and paid in London.

5. _Bankers' Checks or Demand Drafts on Their Correspondents Abroad_